A tale of two American economies

The smaller one is slowly recovering, but the larger one is still in a deep downturn

While the United States recently reported 3.5 per cent GDP growth in the third quarter, suggesting that the most severe recession since the Great Depression is over, the American economy is actually much weaker than official data suggest.

In fact, official measures of GDP may grossly overstate growth in the economy, as they don't capture the fact that business sentiment among small firms is abysmal and their output is still falling sharply. Properly corrected for this, third-quarter GDP may have been 2 per cent rather than 3.5 per cent.

The story of the U.S. is, indeed, one of two economies.

There is a smaller one that is slowly recovering and a larger one that is still in a deep and persistent downturn.

Consider the following facts.

While America's official unemployment rate is already 10.2 per cent, the figure jumps to a whopping 17.5 per cent when discouraged workers and partially employed workers are included.

And, while data from firms suggest that job losses in the past three months were about 600,000, household surveys, which include self-employed workers and small entrepreneurs, suggest a number above two million.

Moreover, the total effect on labour income – the product of jobs times hours worked times average hourly wages – has been more severe than that implied by the job losses alone, because many firms are cutting their workers' hours, placing them on furlough or lowering their wages as a way to share the pain.

Many of the lost jobs – in construction, finance, and outsourced manufacturing and services – are gone forever, and recent studies suggest that a quarter of U.S. jobs can be fully outsourced over time to other countries.

Thus, a growing proportion of the work force – often below the radar screen of official statistics is losing hope of finding gainful employment, while the unemployment rate (especially for poor, unskilled workers) will remain high for a much longer period of time than in previous recessions.

Consider also the credit markets.

Prime borrowers with good credit scores and investment-grade firms are not experiencing a credit crunch at this point, as the former have access to mortgages and consumer credit while the latter have access to bond and equity markets.

But non-prime borrowers – about one-third of U.S. households – do not have much access to mortgages and credit cards.

They live from paycheque to paycheque – often a shrinking paycheque, owing to the decline in hourly wages and hours worked.

And the credit crunch for non-investment-grade firms and smaller firms, which rely mostly on access to bank loans rather than capital markets, is still severe.